Prediction markets are speculative electronic markets created for the purpose of making predictions. Recently, there has been an increased interest in the possibility of using such markets to predict certain events (e.g., will the next U.S. president be a Republican or Democrat) or parameter (e.g., total sales next quarter). The current market prices can be interpreted as predictions of the probability of the event or the expected value of the parameter. Other names for prediction markets include information markets, decision markets, idea futures, preference markets, event derivatives, and virtual markets. Evidence so far suggests that prediction markets are at least as accurate as other institutions predicting the same events with a similar pool of participants. The underlying mechanism to achieve this accuracy is the leveraged information aggregation based on the market principle. People with more accurate information about the possibility of a certain outcome will tend to be willing to bet more real or play money and hence give more leverage to the prediction.
Idea markets are a special category of prediction markets. Unlike most prediction markets, idea markets are not tied to one particular event or outcome. Instead, the participants try to predict which ideas will at some point in time generate substantial value for their organization. Another distinction is that where most prediction markets are open for participation by the general public, access to idea markets needs to be restricted to members of an organization since many of the ideas represent significant strategic value for that organization. This means that the total number of participants is relatively low compared to other types of prediction markets. A further distinction is that with idea markets, the participants are free to enter new ideas, hereby creating new investment opportunities. This means that there is interaction between the idea generation and idea evaluation, which does not occur with other types of markets. A final distinction is that idea markets make it easier to reward successful investors with real money. On open prediction markets, this could be considered gambling and it is therefore illegal in many places. Organizations are free to reward their employees in various ways for value adding activities.
Traditionally, ideas are evaluated by a committee of one or more “experts” within an organization. These committees meet at regular intervals and discuss all the ideas that have been submitted by members of the organization. This form of deliberation has two main disadvantages. First and foremost, the quality of decisions through deliberation of groups of experts has been severely criticized. Deliberation within groups suffers from hidden profiles, information cascades, reputation cascades and group polarization. All these factors contribute to less than optimal decision making within groups of experts. This has been demonstrated in many research projects. A second problem with the traditional idea evaluation method is that idea submitters are often disappointed in the feedback they receive on their ideas and therefore loose motivation to submit an idea again in the future. Idea markets overcome both problems, and have proven to result in quality of decisions that are at least equal to, but often higher than group deliberation, and the market gives inventors immediate feedback on how their ideas are valued by a large group of people.
The value of an idea is supposed to be reflected in the share price of that idea. Therefore, the price-setting mechanism is a crucial component of an idea market system. With idea markets the trade-volume is relatively low, and therefore traditional methods of matching supply to demand do not work. It is possible to have periods without any supply and abundance of demand or vice versa. The liquidity of the market needs to be guaranteed even in such circumstances. Normal stock markets operate with “specialists” or “market makers”, people who actively set the price based upon supply and demand and guarantee the liquidity. This approach is not economic and it introduces a delay. One solution is to automate the price mechanism which allows for instantaneous price updating, after the trade has taken place. However, this introduces yet another problem. If the price is modified immediately after the trade, it becomes possible to manipulate the system through generation of automatic profits. For example, by buying large quantities of shares, one can cause an upward price-change. By subsequently selling these shares in smaller quantities, one can reap immediate profits. Thus, a first problem with current idea markets is that there is no useful mechanism to automatically set prices instantly for small volumes of trades.
The main purpose of applying the market mechanism for idea markets is to aggregate information. The total sum of information that is present with all participants is most effectively aggregated using the market mechanism. However, due to the interaction between idea generation and idea evaluation, it may be beneficial to keep certain information hidden. Research has demonstrated that under certain circumstances anonymous feedback in computerized systems increases the quality of generated ideas. However, for optimal idea evaluation, it may be beneficial to reveal the identity of participants or traders. It is common knowledge that a very small percentage of people within an organization are responsible for the most valuable ideas. To know therefore what shares they trade in, or what comments they make on ideas is useful information. Thus, a second problem with current idea markets is that measures taken to get the maximum amount of information available (for idea evaluation) may work detrimentally to the idea generation aspect of the idea market.
Another related problem with the current art of idea markets compared to other stock markets is the lack of professional analysts. It is common knowledge that analyst reports can have significant influence on the investment decision of the general public. Such analysts are not present in idea markets, which means that the information available to investors may not be complete. For example, someone with great ideas in the organization might be in a high position and not have the time to provide all the details for his idea that are relevant. Someone with more time to spare but with lower quality ideas may actually provide so much information that investors feel more confidence for his idea. Given the relative small size of the idea market, such information bias may result in a price-bias.
U.S. Pat. No. 6,505,174 (“the '174 patent”), which includes reference to U.S. Pat. No. 5,950,176 and which corresponds to International Publication No. WO 00/026745 A2 is a patent currently assigned to HSX, Inc. The '174 patent describes an automated trading system as used on the Hollywood Stock Exchange. The algorithm used by the '174 patent for determining the share price is based on a matching between supply and demand orders. These orders are matched in periodic cycles, which is fundamentally different from the present invention. However, in the case wherein the cycle-time is reduced to 0, and therefore executed immediately after a single order has been received, the patent '174 patent can also be perceived as dealing with instantaneous trading. Yet the mechanism as described in the '174 patent is different from the mechanism in the current invention. An '174 patent algorithm checks with each trade order to determine if the Net Moving Balance (the difference between the number of shares in supply and demand) exceeds a certain pre-defined threshold. If it does not exceed the threshold, then the price stays the same. If it does exceed the threshold, then the price is increased by a certain pre-defined constant. After each trade, the thresholds are re-set. The disadvantages of this mechanism are twofold; a), with small trades, the price does not change, which makes it possible for a trader to conduct a large number of small trades without influencing the price; and b), the price changes in predefined increments, independent of the size of the trade. Thus with very large trades, prices will change with the same increment as with trades that are slightly larger than the thresholds. Both disadvantages result in a possible manipulation of the system by smart traders. The mechanism of the present invention does not have these disadvantages.
Furthermore, the '174 patent solution applies both a market braking and a market halting mechanism. The braking mechanism slows further price movement down in case of price movements that exceed a certain braking threshold. Should this mechanism not be effective enough (in an extreme bear or bull market) then a trade halting mechanism ensures that no trading is possible at all for the given security. The present invention does not provide either of these mechanisms. They are not necessary because the internal idea market is not subject to external sentiments which could give cause to bear or bull markets.
U.S. patent application Ser. No. 2006/0271455 (“the '455 publication”) is currently assigned to Rite Solutions. The '455 publication describes how idea markets can be used to support idea generation and idea selection within an organization; however, the only reference that is made in the '455 publication to a price-setting mechanism is the notion that “a price analysis is performed during step 950”. From an online article (i.e., http://www.riedc.com/success-stories/rite-solutions), it is clear that this price-setting is done manually, as indicated by the following statement contained therein: “a market maker (Don Stanford; retired CTO from industry) adjusts their prices based on the amount of intellectual investment each stock attracts from employees”.